Spotting Diamonds in the Trash

In the aftermath of yesterday's very noisy Fed rally, I thought it would be a worthwhile exercise to see who is missing out the upswing. The stock market is up more than 2% this week, 5% on the month and 20% so far this year. The fear that the Fed would stop feeding traders' money addiction has abated for now and euphoria reigned on Wall Street on Wednesday.

Given all the excitement over free money and rising stocks, what could possibly be going down? I have pulled up a list of stocks that have reasonable valuations and are trading near new lows to see what was sitting out the rally.

My first observation is that investors are fleeing from the closed-end bond funds at a pretty rapid clip. The selling is pretty well spread across every sector of the fixed income markets -- although municipal funds tend to be getting hit the worst. It is stunning to see funds including Blackrock Maryland Municipal Fund (BZM) and Eaton Vance Municipal Trust (EVN) down 20% -- fears about rising rates and municipal credit fears have spurred intense selling. One wonders if investors understood the double-edged risk of these leveraged vehicles when their brokers touted them as safe income investments. It will be interesting to see if investors or traders return to these vehicles. The discounts to net asset value (NAV) are not yet large enough for me, but these funds bear watching for decent entry points.

A few of my favorite small banks are on the list as well. This is not so much a function of the stock declining as the shares not rising due to investor neglect. I hope investors continue to reflect these converted thrifts such as Westbury Bancorp (WBB), Berkshire Bancorp BERK and Home Bancorp (HBCP). The longer we have to accumulate them, the more money we will all make over the next few years. They all trade at healthy discounts to book value and have excess capital with strong loan portfolios. I could not care less if they hit new highs this year. I am more concerned where they will be over the next decade.

I am intrigued by some of the other banks hitting the new lows list as well. Territorial Bancorp (TBNK) has 27 branches in Hawaii with about $1.5 billion in assets. It has an equity-to-capital ratio of 13 and nonperforming assets make up just 0.36 of total assets. The bank is buying back stock and just raised the dividend; however, the stock declined almost 10% in the last quarter. Hawaii's economy is in pretty good shape and this bank will benefit as the state continues to recover and see increased tourism activity. The shares currently trade right at tangible book value. If they continue to slide, this will be a fantastic addition to the Trade of the Decade portfolio.

Tristate Capital (TSC) is another bank that has been slipping in price in spite of having adequate capital and very low nonperforming assets. Tristate is a commercial bank serving middle-market businesses and high-net-worth individuals. It is based in Pittsburgh and has offices in Philadelphia, Cleveland, Princeton, N.J., and New York City. It also serves private banking clients nationwide. The bank currently has about $2.2 billion in assets.

The bank had its initial public offering (IPO) bank in May and investors in the after-market just do not seem to care about the stock very much. This stock is going to be very well positioned when higher rates kick in as 86% of its loans and 44% of its securities portfolio were on floating rates. In addition, 44% of deposits were fixed-rate time deposits. Higher long-term rates will cause an explosion of the net interest margins and profits. Trading at 1.2x book value, the stock is a little rich, so I am hoping investors keep selling and push it down to bargain levels.

There is a lot off junk on the new low list -- especially during an extended rally like we have now. A lot of these companies that are hitting new 52-week lows will probably not be in existence 52 weeks from now. However, careful shoppers can find some diamonds in the trash pile that have the potential for significant returns.

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